MURRAH, Circuit Judge.
This appeal involves the claim of the Inter-State National Bank of Kansas City in the matter of the Garden City Grain and Seed Company, a bankrupt, in the District Court of Kansas. For background see Central States Corp. v. Luther, 10 Cir., 215 F.2d 38; First National Bank in Wichita v. Luther, 10 Cir., 217 F.2d 262; and Luther v. United States, 10 Cir., ___ F.2d ___.
After entering its formal appearance, the Bank filed a proof of claim based on a $50,000.00 promissory note of the bankrupt dated October 31, 1951, due December 31, 1951, and collateralized by its warehouse receipt for 62,000 bushels of Number 2 yellow milo grain. It was affirmatively alleged that no part of the debt had been paid and that there were no offsets or counterclaims. The court was requested to convert the security into money, credit the amount upon the claim, and allow the balance, if any, as a common claim against the estate.
The trustee answered, admitting the execution of the note and the pledge of the warehouse receipt, but specifically denying the validity of such receipt as security for the note; and denying the right of the claimant to recover on the note because within four months of bankruptcy the claimant had obtained a $150,000.00 voidable preference through the payment to it of one promissory note in the amount of $100,000.00 and another for $50,000.00. It then alleged that unless the preference was returned to the trustee to become a part of the assets of the bankrupt estate, the claim should be disallowed as being without equity, and as being claimed by one coming into a court of equity with unclean hands.
In an "Action to Recover", the trustee alleged substantially the same facts and prayed for an order requiring the claimant Bank to pay into court the sum of $151,180.55 (principal and interest), and that in such event, the Bank's claim be allowed as a common claim in the amount of $50,000.00, plus interest. The trustee also filed an "Action in the Nature of an Interpleader" in which he joined all claimants to the liquidated inventory of milo, including the claimant Bank, and prayed for a deraignment of their interest therein. And, timely notice of the hearing on the interpleader was sent to all creditors joined therein, including the Bank.
On November 24, 1952, the referee commenced hearings on all the claims joined in the interpleader action. The purpose of these hearings was to determine the allowability, rank and priority of the asserted claims against the grain account. The Bank's attorney of record appeared and participated in these proceedings, in the course of which he stated that he did not think it would be necessary to introduce evidence on its claim, the trustee having admitted relevant facts in his pleadings; and that he would like to defer hearing on the same until other related claims had been heard. But with respect to the "counterclaim", the Bank's attorney objected to the court's summary jurisdiction, expressly stating that he did not wish to submit the counterclaim on the pleadings, stipulate the facts with reference thereto, or in any manner consent to summary jurisdiction over such counterclaim.
The Bank's claim was thereupon formally continued until February 5, 1953. Thereafter, and before the case came on for hearing, the Bank filed its formal objection to the summary jurisdiction of the bankruptcy court over the trustee's "Action to Recover" on the grounds that it would deprive it of trial by jury, and offered to enter its general appearance in a plenary action instituted by the trustee, and to join with the trustee in a request for the immediate trial on the claims as soon as the pleadings were closed. In a further reply to the trustee's answer and "Action to Recover", the Bank renewed its objection to summary jurisdiction of the court over any and all claims for affirmative relief asserted against it by the trustee. It admitted the execution and receipt of the payment of the two notes alleged in the trustee's answer, but denied any and all other allegations.
After hearing in which all of the notes and warehouse receipts mentioned in the pleadings were admitted in evidence and testimony taken concerning the solvency of the bankrupt at critical times, the referee made extensive findings of facts, reciting the execution of the notes and warehouse receipts substantially as pleaded and agreed. On the jurisdictional question, the court took the view that in the exercise of its equitable jurisdiction to allow and disallow claims, determine setoffs and counterclaims, and enter such judgments as were necessary to enforce the Act, it was empowered to hear and determine the trustee's counterclaim to the Bank's claim filed in the proceedings. In so holding, the referee proceeded upon the premise that when a creditor files his proof of claim, he invokes the jurisdiction of the court and consents to the adjudication of all proper defenses, setoffs and counterclaims that may be lawfully imposed by the trustee.
Having thus sustained its jurisdiction of the counterclaim and the preference issue, the referee proceeded to find in effect that the Bank secured the payment of the bankrupt's notes in the sum of $150,000.00 and interest within four months of bankruptcy with actual or constructive knowledge of insolvency; and that in so doing, the Bank received a voidable preference. It accordingly offset the claim for the unpaid note against the voided preference and decreed that the trustee recover from the Bank the difference of $100,333.33.
On petition to review, the trial court affirmed the referee on jurisdiction and facts, but, denying the setoff against the preference, it rendered judgment against the Bank for the full amount of the preference in the sum of $150,875.00 (principal plus interest from date of preference) with interest thereon from the date of the filing of the action to recover; and ordered that the Bank's claim be allowed as a common claim only after payment of the preference.
Everyone apparently concedes, as they must, that the bankruptcy court is without summary jurisdiction to adjudicate a controversy respecting property or chose in action held adversely to the bankrupt estate without the consent of the adverse claimant. And, see Central States Corp. v. Luther, supra; City and County of Denver v. Warner, 10 Cir., 169 F.2d 508. The narrow and perplexing question here is whether the entry of the Bank's appearance in the bankruptcy proceedings and the filing of its claim constituted requisite consent to the exercise of summary jurisdiction to adjudicate a preference and grant affirmative relief thereon.
While the trustee's affirmative pleadings are labeled "Action to Recover", they are in substance and effect an equitable counterclaim for an adjudication of a preference and a judgment for recovery of the same, the mode of procedure for which is governed by the Federal Rules of Civil Procedure, 28 U.S.C.A., and particularly Rule 13. See General Order of Bankruptcy Number 37, 11 U.S.C.A. following § 53.
Until recently, the trend of the decisions was undoubtedly opposed to summary jurisdiction by implied consent. The courts have continually gone back to Louisville Trust Co. v. Comingor, 184 U.S. 18, 22 S.Ct. 293, 46 L.Ed. 413, where the adverse claimant came into court in obedience to pre-emptory orders, and although he participated in the proceedings before the referee, he made formal protest to the exercise of summary jurisdiction before the final order was entered. On appeal, summary jurisdiction was denied on the grounds that the claimant, not having voluntarily come into court, did not consent to summary jurisdiction by participating in the proceedings before the referee. To the same effect see Pickens v. Roy, 187 U.S. 177, 23 S.Ct. 78, 47 L.Ed. 128; Galbraith v. Vallely, 256 U.S. 46, 41 S.Ct. 415, 65 L.Ed. 823. More recently it is held that by a petition for reclamation of specific property held by the trustee, the claimant did not subject himself to the summary jurisdiction of the bankruptcy court to enter a turn-over order "in respect of matters having no immediate relation to the claim which it had presented." Daniel v. Guaranty Trust Co. of New York, 285 U.S. 154, 52 S.Ct. 326, 328, 76 L.Ed. 675. Possession, either actual or constructive, was declared to be the touchstone of summary jurisdiction, and in the absence of voluntary acquiescence of the adverse claimant, the trustee's only remedy for the voidance of a preference or any other affirmative relief was in a plenary action. See In re Rathman, 8 Cir., 183 F. 913.
But there was some deflection along the way, see Moonblatt v. Kosmin, 3 Cir., 139 F.2d 412, and the Supreme Court granted certiorari in Cline v. Kaplan, 323 U.S. 97, 65 S.Ct. 155, 89 L.Ed 97, to resolve conflicting views on matters affecting bankruptcy administration. That case involved the question of consent to proceed summarily to enter a turn-over order. Beyond reiterating the rule of the Comingor case, all the court decided was that requisite consent to summary jurisdiction depended upon the facts of the particular case; and that participation in the summary proceedings in obedience to an order to show cause did not amount to consent, provided formal objection was made before entry of the final order. The decision was criticized as not taking proper cognizance of the applicability of Rule 12(h), F.R.C.P. See March 1948 Yale Law Journal, 683, 711; 2 Collier on Bankruptcy, 14th Ed., § 23.08, p. 524; In re Petroleum Conversion Corp., D.C., 99 F. Supp. 899, affirmed, 3 Cir., 196 F.2d 728.
Apparently inspired by this criticism and these recommendations, the Congress amended Section 2, sub. a(7) of the Bankruptcy Act, 11 U.S.C.A. § 11, sub. a(7) to provide that "where in a controversy arising in a proceeding under this title an adverse party does not interpose objection to the summary jurisdiction of the court of bankruptcy, by answer or motion filed before the expiration of the time prescribed by law or rule of court or fixed or extended by order of court for the filing of an answer to the petition, motion or other pleading to which he is adverse, he shall be deemed to have consented to such jurisdiction." The amendment was keyed to Rule 12(h), F.R.C.P. and was designed to bring waiver and consent in bankruptcy cases into conformity with the requirements of that applicable Rule. See H.R. 2320 and Sen.R. 1395.
The appellant invokes this amendment as conclusive of the question of summary jurisdiction by implied consent, construing it in accordance with Rule 12(h) to provide for the waiver of the right to object to summary jurisdiction only if it is not made as provided therein; and contends that since timely objection was made in our case, there can be no implied consent to summary jurisdiction. The amendment did not purport to extend summary jurisdiction, In re Houston Seed Co., D.C., 122 F. Supp. 340, nor do we think it purports to extinguish that jurisdiction once it attaches. When considered against the background of the considerations which prompted the amendment, we think it has application only to controversies arising in bankruptcy proceedings where the adverse party is brought into court by pre-emptory process, as in turn-over order cases like Cline v. Kaplan, supra; and that it was not intended to apply to a claimant if he is already voluntarily in court.
On the question of conferrable summary jurisdiction by an appearance and the filing of a claim, there is respectable authority for denying summary jurisdiction to adjudicate a preference or to grant any affirmative relief on a counterclaim to a general claim filed in the proceedings. It is said that although a preference is a valid defense which the trustee may interpose to a claim, the bankruptcy court is without summary jurisdiction to hear and determine such defense, but can go no further than to determine the net amount of the claim and hold the same in abeyance until the preference issue has been adjudicated in a plenary suit, unless of course the filing claimant acquiesces in the exercise of summary jurisdiction over the counterclaim for preference. In re Continental Producing Co., D.C., 261 F. 627; In re Eakin, 2 Cir., 154 F.2d 717; B.F. Avery Sons Co. v. Davis, 5 Cir., 192 F.2d 255, certiorari denied 342 U.S. 945, 72 S.Ct. 559, 96 L.Ed. 703; Solomon v. Allied Building Credits, 8 Cir., 209 F.2d 828; In re G.L. Odell Const Co., D.C., 119 F. Supp. 578. Other courts have sustained summary jurisdiction to adjudicate a preference on a counterclaim, but denied any such jurisdiction to grant affirmative relief. Metz v. Knobel, 2 Cir., 21 F.2d 317; Schwartz v. Levine Malin, Inc., 2 Cir., 111 F.2d 81; Kleid v. Ruthbell Coal Co., 2 Cir., 131 F.2d 372; Fitch v. Richardson, 1 Cir., 147 F. 197; March 1948 Yale Law Journal, p. 711. The courts sustaining defensive summary jurisdiction do so on the theory that it is a necessary incident to the power to determine allowability. See 3 Collier § 60.60, p. 1033; 4 Collier § 68.20, p. 786. And, the question of preference having been thus adjudicated, it is res judicata in the plenary action for affirmative relief thereon. Giffin v. Vought, 2 Cir., 175 F.2d 186.
It was not until after Alexander v. Hillman, 296 U.S. 222, 56 S.Ct. 204, 80 L.Ed. 192, that summary jurisdiction to afford affirmative relief on the trustee's counterclaim was fully sustained. The Hillman case involved the exercise of equity jurisdiction in a receivership case. But it sustained the equitable jurisdiction over counterclaims for portions of the receivership estate adversely held by those who had filed their claims to a part of it. In doing so, the court proceeded on the valid premise that the parties having voluntarily invoked the equitable jurisdiction of the court, it was empowered to decide all matters in dispute and decree complete relief. The equitable doctrine of the Hillman case was apparently first applied by analogy to a bankruptcy proceedings in Florence v. Kresge, 4 Cir., 93 F.2d 784. After having been reversed in the Hillman case, that court could see no reason why the doctrine of the Hillman case should not be applied with equal force to the counterclaim of a trustee in bankruptcy against one who had filed his general claim against the bankrupt estate. The claim and the counterclaim arising out of the same contract, the court could see no reason why the bankruptcy court should not adjudicate the counterclaim in favor of the bankrupt estate and set them off against the claims filed against the estate.
The Second Circuit applied the Hillman doctrine to a claim in bankruptcy in Chase National Bank of City of New York v. Lyford, 2 Cir., 147 F.2d 273, 277. And see also Giffin v. Vought, supra; Floro Realty Investment Co. v. Steem Electric Corp., 8 Cir., 128 F.2d 338; Columbia Foundry Co. v. Lochner, 4 Cir., 179 F.2d 630, 14 A.L.R.2d 1349. While these cases did not involve a preference, they were based upon the rule generally applicable in bankruptcy to the effect that once jurisdiction of a bankruptcy court has been invoked, whether by the debtor or the creditor, the petitioner risks "all of the disadvantages which may flow to him as a consequence, as well as gaining all of the benefits." Case v. Los Angeles Lumber, 308 U.S. 106, 127, 60 S.Ct. 1, 12, 84 L.Ed. 110. The consent by filing doctrine was first applied to authorize an adjudication of a preference in In re Nathan, D.C., 98 F. Supp. 686, 692, which, after an extensive review of all the authorities found "rational and solid ground for holding that a creditor, by presenting his claim for examination and allowance * * * impliedly consents to adjudication by the bankruptcy court in summary proceedings * * * of not only the merits of the claim and of any defenses or setoffs thereto * * * but also the merits of any counterclaim for affirmative judgment which the trustee may properly assert in response to the claim * * *." This view was firmly upheld in In re Solar Mfg. Corp., 3 Cir., 200 F.2d 327, certiorari denied sub nom Marine Midland Trust Co. v. McGirl, 345 U.S. 940, 73 S.Ct. 831, 97 L.Ed. 1366. And see also Conway v. Union Bank of Switzerland, 2 Cir., 204 F.2d 603; 2 Collier § 23.08, p. 528. We can see no valid difference, jurisdictionwise, in a counterclaim for preference sustained in the Nathan and Solar Manufacturing Corporation cases, and a claim based upon an obligation incurred prior to bankruptcy in the Kresge and Lochner cases. In either case, the jurisdiction of the court is based upon implied consent by invocation and is sustainable upon the same wellgrounded equitable jurisdiction to render full and complete relief as between petitioning parties to the court.
The bankruptcy court has exclusive and summary jurisdiction to allow or disallow claims against bankrupt estates. Bankruptcy Act, § 2, sub. a. In the exercise of that jurisdiction, it "sits as a court of equity" clothed with jurisdiction "to sift the circumstances surrounding any claim to see that injustice or unfairness is not done in administration of the bankrupt estate." Pepper v. Litton, 308 U.S. 295, 60 S.Ct. 238, 246, 84 L.Ed. 281. See also W.F. Sebel Co. v. Hessee, 10 Cir., 214 F.2d 459; Central States Corp. v. Luther, supra; 1 Collier § 2.09, p. 162. And, claims of creditors who have received or acquired void or voidable preferences are not allowable unless such creditors shall surrender such preferences. Bankruptcy Act § 57, sub. g, 11 U.S.C.A. § 93, sub. g. Section 60, sub. a, 11 U.S.C.A. § 96, sub. a, defines a void or voidable preference, and Section 60, sub. b provides that such preference may be voided by the trustee. From this it seems manifestly clear that the bankruptcy court is empowered to attach appropriate conditions to the allowance of a claim, including the power to require the claimant to do equity before receiving equity in the bankruptcy proceedings. See Central States Corp. v. Luther, supra.
It is only a short, and to us a perfectly valid jurisdictional step from the summary power to adjudicate a voidable preference and summary power to grant affirmative relief thereon, especially when the authorized adjudication has binding effect in a plenary suit. Certainly the exercise of this affirmative equitable jurisdiction is within the substantive provisions of the Bankruptcy Act providing for the disallowance of claims tainted with a preference, i.e. see §§ 57, sub. g and 60, sub. a, supra.
The Bank earnestly contends, however, that in no event does the court have jurisdiction of a counterclaim for a preference which did not arise out of the same transaction giving rise to the claim. And, it is said that the notes forming the basis for the counterclaim are separate and distinct transactions from the note on which the claim is based. Section 68, sub. a, 11 U.S.C.A. § 108, authorizes the setoff of all mutual debts or credits between the estate of a bankrupt and a creditor, and provides that the account shall be stated and one debt set off against the other; and that only the balance shall be allowed and paid. This Section of the Act does no more than import the time-honored doctrine of equitable setoff into the bankruptcy law. 4 Collier §§ 68.01-68.02, p. 703; 2 Remington on Bankruptcy 5th Ed. §§ 1431-1432-1433. The referee set off the claim against the counterclaim, stated the account and gave judgment in favor of the trustee for the balance.
And while Section 68 does not purport to confer jurisdiction not otherwise existing, Section 68, sub. a does authorize the court to balance the accounts between a creditor and the bankrupt estate based upon mutual debts or credits. See Luther v. United States, supra. Cf. Cherry Cotton Mills v. United States, 327 U.S. 536, 66 S.Ct. 729, 90 L.Ed. 835. Section 68, sub. b, however, prohibits the allowance of a setoff in favor of a debtor who obtains a preference under Section 57, sub. g, and it was manifestly for that reason the trial court denied the setoff allowed by the referee. Section 68 does not specifically provide for a counterclaim. It is silent with respect thereto beyond the negative provision that they shall not be allowed in favor of a debtor under specified conditions. See 4 Collier §§ 68.11-68.12. But Section 68 was not intended to govern jurisdiction or to provide a mode of procedure. The Federal Rules of Civil Procedure are expressly made applicable and we look to Rule 13 to determine whether the counterclaim is maintainable.
Counterclaim under Rule 13, F.R.C.P., includes both setoff and recoupment, and is broader than either in that it includes other claims and may be used as a basis for affirmative relief. See Clark Code Pleadings, 2d Ed. 637, cited 3 Moore's Federal Practice § 13.02, p. 9. Rule 13(a) F.R.C.P., provides for compulsory counterclaim "if it arises out of the transaction or occurrence that is the subject matter of the opposing party's claim * * *." Rule 13(b) provides for a permissive counterclaim against an opposing party "not arising out of the transaction or occurrence that is the subject matter of the opposing party's claim." The only difference in the two sub-sections which we need to note is that the compulsory counterclaim, being ancillary to the claim, derives its jurisdiction from the same source, whereas a permissive counterclaim not arising out of the same transaction or occurrence must rest upon independent grounds of jurisdiction. But even that distinction is of no consequence here for concededly the counterclaim is within the conferrable jurisdiction of the parties. And, being of the view that the Bank impliedly consented to the jurisdiction of the court, the counterclaim was maintainable under Rule 13(b), F.R.C.P., whether compulsory or permissible. See 3 Moore's Federal Practice §§ 13.18-13.19.
We hold, therefore, that the court acquired jurisdiction of the counterclaim by implied consent, and that it was authorized to adjudicate the preference and give judgment for recovery of the same.
To the contention that the Bank was denied the right to a jury trial, it need only be said that if, as we have held, the Bank impliedly consented to the summary jurisdiction of the court, it thereby pro tanto waived its right to a jury trial on the issues involved in the claim and counterclaim, including the preference issue.
On the preference issue, the trustee concedes the burden of proving the preference by a preponderance of the evidence, meaning that at the time the Bank secured or suffered the payment of the $100,000.00 note on its maturity date of November 24, 1951, and the $50,000.00 note on its maturity date of December 17, 1951, the bankrupt was "insolvent" in that on the critical dates, the aggregate fair market value of its assets was insufficient to pay its debts, § 60, sub. a of the Act, 11 U.S.C.A. § 96, sub. a; 1 Collier § 1.9, p. 67; 3 Collier § 60.30, p. 857; 4A Remington §§ 1686-1687; and that at such critical times the Bank had reasonable cause to believe that the bankrupt was insolvent. § 60, sub. b of the Act, 11 U.S.C.A. § 96, sub. b.
To prove insolvency, the trustee introduced in evidence an audit of all the books and records of the bankrupt from its inception in 1949 to the date of bankruptcy in January 1952. This audit showed the book value of the assets of the bankrupt as of September 30, 1951 (4 months next preceding bankruptcy) was $56,996.73 less than its liabilities; and that as of the date of bankruptcy, the assets of the company were $384,547.03 less than its liabilities. And the auditor was permitted to testify that although the audit did not reflect a day-to-day balance of assets and liabilities, it did show that the bankrupt lost money from its inception, and that from September 30, 1951 to the date of bankruptcy, there was a continuous deterioration in the financial condition of the bankrupt.
Relevancy and probative value of the audit is challenged on the grounds that book value of the assets is not necessarily fair market value, and is therefore not a proper criterion for determining insolvency; that in any event, it does not purport to show the condition of the company on the alleged preference dates; and that the condition of the company on September 30 and on the date of bankruptcy is incompetent to prove insolvency on the critical dates. It is true that book value does not necessarily prove fair market value, Spreckels-Rosekrans Inv. Co. v. Lewis, 9 Cir., 146 F.2d 982, and it is also true that insolvency on the date of preference is the critical issue, and insolvency on any other date is insufficient standing alone to prove this essential element of a preference. Everett v. Warfield Mining Co., 4 Cir., 37 F.2d 328; Arkansas Oil Mining Co. v. Murray Tool Supply Co., 8 Cir., 127 F.2d 564. But, book value is not inadmissible evidence of fair market value, 4A Remington § 1691, and evidence of insolvency on dates before and after preference dates is competent evidence of insolvency on those dates, especially when considered with evidence of continued decline toward bankruptcy. 4A Remington §§ 1689-1690; 1 Collier § 1.19, p. 83.
Most of the assets of the bankrupt consisted of grain in storage and other items, the actual value of which was the book value; and the trustee qualified and was permitted to testify that the value of the physical assets of the bankrupt was less than the fair market value. The audit also showed that as a warehouseman and dealer in grain, it was short in its grain account on a rising market. Particularly, the audit showed that on September 30, 1951, the bankrupt was short 15,384,403 pounds of milo grain, its chief commodity; that on November 14, the shortage had increased to 24,350,216 pounds; that just prior to December 17 (one of the preference dates) the shortage had increased to 26,158,937 pounds; and that on January 17, the shortage was 25,574,193 pounds. On the basis of this evidence, the trial court affirmed the referee's findings that the bankrupt was insolvent on the critical dates. And see Central States Corp. v. Luther, supra, where we held the bankrupt insolvent on about these same dates.
On the question of reasonable cause, the evidence showed that the Bank first extended credit to the bankrupt through its correspondent bank in Garden City, Kansas in 1950, and that during the interim between the first and last loans, the bankrupt owed the bank on promissory notes, collateralized by warehouse receipts, as much as $350,000.00. Most of these transactions were conducted through the Garden City bank, but on some occasions the officers of the bankrupt dealt directly with the officers of the claimant Bank. On the 12th or 13th of November, the bankrupt owed the Bank $200,000.00, evidenced by promissory notes, all due on different dates before the first of January, 1952. At about that time, the Bank, through one of its officers, learned that an officer and stockholder of the bankrupt living in Texas "was in trouble", apparently over his grain accounts. This information caused the claimant Bank to re-examine its collateral in the form of warehouse receipts, resulting in a determination by the Bank's attorney that they were not in proper form in that they did not purport to represent that the grain covered thereby was owned by the bankrupt, but was owned by the Bank and stored for its account. After a meeting of the discount committee, and on the following day, two officers of the Bank, one of whom was its attorney, went to Garden City, where they first called upon the correspondent bank. The managing officer of the bankrupt was called in and the situation explained. As a result of this conference, the collateralized warehouse receipts were changed to reflect that the grain covered thereby belonged to the bankrupt. At the same time, new or substituted notes were executed on the Bank's regular form in identical amounts with the same maturity date, except one note was accelerated two days, and they were collateralized by new warehouse receipts.
The evidence concerning the investigation conducted by the officers of the Bank is in conflict, but it does show that the officers checked the warehouse receipt books against the grain in store; and there is also some evidence that they looked at the general books and ledgers of the bankrupt. They conferred with the bankrupt's attorney and returned to Kansas City. There was also evidence that the bankrupt's financial statement made to the Bank as of September 30, 1951, showed an overdraft in excess of $36,000.00, and that its books had not been posted since June 30, 1951.
The referee specifically found that the Bank's officers learned that the bankrupt's books were inadequately kept, but made no further investigation; that they devoted their attention to the validity of the collateral held by the Bank, and that the taking of the new notes and receipts indicated that the Bank was attempting to avoid any question of solvency or insolvency of the bankrupt by obtaining valid collateral for their notes.
While mere suspicion of insolvency does not amount to reasonable cause, it is sufficient if a preferred creditor has "such knowledge or notice of such facts and circumstances as would incite a person of reasonable prudence under similar circumstances to make inquiry. And if inquiry would lead to the development of facts essential to the knowledge of the situation, he will be chargeable with knowledge thereof." McDougal v. Central Union Conference Ass'n, 10 Cir., 110 F.2d 939, 941; 4A Remington §§ 1708-1709; 3 Collier § 60.54, p. 1001.
Making application of this rule to the facts and circumstances, the referee concluded that if the Bank had used the information at hand and made diligent inquiry into the financial condition of the bankrupt, it would have known that the bankrupt was insolvent; and that the Bank, through its representatives, therefore had reasonable cause to believe that the bankrupt was insolvent on November 14, 1951, and that such insolvency continued until the date of bankruptcy.
On the issue of reasonable cause, the Bank offered testimony to the effect that from time to time it consulted with employees of the Kansas Grain Inspection Department having statutory supervision of the bankrupt's warehouse, and that in pursuance of that inquiry, they were informed that the warehouse was found to be in balance on its grain account; and they also offered testimony of conversations with the bankrupt's reputable attorney concerning the good reputation of the active officer of the bankrupt. This testimony was offered not for the purpose of showing the truth of such statements, but for the limited purpose of showing that the Bank relied and acted upon it, and that such testimony was competent to show lack of reasonable cause to believe that the bankrupt was insolvent on the critical dates. The trustee objected to this testimony on the grounds that it was hearsay and the referee tentatively sustained the objection. The Bank complains of the exclusion of this testimony, but the record plainly shows that upon reconsideration and the citation of authorities, the referee admitted all such evidence over the objections of the trustee. Moreover, in its order of affirmance, the trial court alluded to this evidence, specifically stating that it had "considered such evidence together with all other evidence contained in the record and had adopted and made its own findings of fact * * * after consideration of such disputed evidence."
The trial court affirmed the referee, and having regard for all the facts and circumstances, we are unable to say that those findings and conclusions are not supported by competent evidence. They are therefore not clearly erroneous and they are affirmed.
The $50,000.00 preference note, due December 17, 1951, was paid on maturity by a telegram from the Garden City bank directing the Inter-State Bank to debit its account for the amount of the note and interest. The Bank takes the position that the note having been paid by the Garden City bank and not the bankrupt, there was no transfer of the bankrupt's estate, hence no voidable preference. A "transfer" of a part of the debtor-bankrupt's property is of course the first essential element of a preference, and payments to creditors of a bankrupt by third parties or to the bankrupt for the specific purpose on the part of such third party to satisfy the debt of a creditor does not constitute a transfer within the meaning of the preference statute. Grubb v. General Contract Purchase Corp., 2 Cir., 94 F.2d 70; 4A Remington § 1670. But the payment by the third party must be made with the specified intention on his part that it shall be used for the purpose of discharging the particular debt to the particular creditor. In other words, the third party, not the debtor, must choose the creditor and the debt to be paid. Smyth v. Kaufman, 2 Cir., 114 F.2d 40, 130 A.L.R. 951 and annotation p. 956.
Two days after the payment of the preference note the bankrupt borrowed $50,000.00 from the First National Bank in Wichita, and the proceeds of this loan were credited to the Garden City bank. The referee observed that the funds from this loan were "probably" used to reimburse the Garden City Bank. But there is nothing in the record to indicate that the Wichita Bank intended that its loan would be used to pay the Inter-State Bank's note, or for that matter that it knew of the existence of any such note. Certainly there is nothing in the record to indicate that the loan was made on condition that it would be used for any specific purpose. The Garden City bank did not gratuitously pay the note to the Inter-State Bank. It was undoubtedly reimbursed by the Wichita bank and the whole transaction amounted to a preference.
The Bank also complains of the judgment of the court holding the collateralized warehouse receipts invalid as a lien upon the grain in store or the proceeds in the hands of the appellee. But the warehouse receipts involved here are not distinguishably different in tenor and effect from those held invalid in Central States Corp. v. Luther, supra.
The judgment of the trial court is affirmed.